08 August 2016

$10 trillion around the globe is now invested in negative interest
rate bonds. Investors are actually paying countries to keep their money, the
way that you might pay a bank for a safety deposit box. The Netherlands has
records that go back 499 years - back to the year that Martin Luther started
the Protestant Revolution - and for the first time in half a millennia, the
Dutch are payingnegativeinterest rates on bonds.Japan, the European
Central Bank, Sweden, Switzerland, and Denmark are all paying negative interest
rateson some bonds. The
price of capital is really, really low.

The supply of capital is at an all time
record high. That's reason enough that capital's price (interest rates) is low
but there is more. The demand for capital is low.

What options do investors have? There is
real estate, which continues to rise in major cities. And obviously you can buy
bonds - an increasing percentage of which offer a negative interest rate. Or
you invest in existing businesses, buying stock. Stock might look like a decent
investment compared to bonds, but stocks are priced pretty high already. And
companies have enough capital that they are buying back their own stock at
record rates. They don't really need your money and don't even know what to do
with their own cash. Another option is to fund a startup rather than buy stock
in an existing company. You can help to create a business rather than just buy
a share of an existing one.

So, what is the demand like for startups?
How much capital do they need? Not much. It now takes less capital to start a
business and that is one more reason the price of capital has fallen.

The Global Entrepreneurship Monitor (GEM)
tracks various entrepreneurial measures around the globe (which I guess is
implied by its name). One fascinating tidbit came out of new data they released
8/8/2016. In their 2006 report, entrepreneurs needed an average of $65,000 to
get a business off the ground.For
the 2015 GEM report, the median was $13,000. Now median is typically lower
than average and it is possible that the difference between $65,000 and $13,000
could all be explained by that difference in measure. It's also possible that
the capital needs for startups has dropped considerably in the last decade.

To exaggerate the differences, think back
to a startup in 1960 when you might be setting up a factory or even a brick and
mortar store. That requires a serious outlay of capital. Now think about a
startup today. It might be focused on app development. They might need a half
dozen laptops for the programmers.

Consider Uber. Its valuation is around $60
billion. It is essentially a taxi service. It hasat
least a quarter of a million driversin
the US but it didn't have to purchase any of their cars. 10 or 20 years ago, it
might have taken $5 billion to create a fleet of 250,000 taxis. Today they are
able to "create" a new car simply by having another driver download
an app. The capital it took to start Uber is so much less than what it would
have taken to create comparable capacity in 1995 or even 2005 before smart
phones became ubiquitous. Uber was able to create a lot of wealth but they
didn't need a glut of capital to do it.

In 2006, it took $65,000 to start a
company. By 2015, it took maybe 1/4 that. Demand for capital is dropping even
as the supply of capital is going up. No wonder the price of capital is so low.

There are a couple of implications of
this.

One implication is that capital is no
longer a limit. To have low capital gains tax might make sense in terms of
competing for global capital but it doesn't make sense in terms of trying to
attract capital as if it were still the scarce input that it was in the late
1800s - or even late 1900s.

The other implication is that we have to
think about strategies that treat capital as plentiful rather than scarce. What
does this mean? Among other things, it means that we should more aggressively fund
startups, recognizing that it is the entrepreneurial opportunities that are
scarce rather than the capital to fund them. And of course if we go further
upstream, we will realize that the entrepreneurial opportunities worth
investing in are more scarce than we would need to fully employ capital because
we don't do enough to create entrepreneurs. We have an education system
designed to create knowledge workers but not to create entrepreneurs. And
entrepreneurs - rather than capital - are the real limit to today's economy. We
have to popularize entrepreneurship.

For roughly the quarter century leading up to
the Great Recession, excess reserves bounced around between one to two billion
dollars. Excess reserves are money that banks keep rather than loan out. Then
starting in September of 2008, excess reserves began to swell. From August to September,
they rose from %1.9 billion to $59 billion. In October they hit $267B and then $767B
by the end of 2008. In
August of 2014 excess reserves peaked at $2.7 trillion, roughly 200X what
they’d averaged before the Great Recession.

You have to appreciate the fact that the Federal
Reserve was trying to pump capital into the economy. The fact that it did so
much more for excess reserves than actual investments suggests that capital
wasn’t the limit to progress. (An important caveat here. At the height of the
financial crisis in 2008 and early 2009, credit and capital was a limit and it
was a beautiful thing to have the Fed intervene with a flood of cheap capital
and guarantees. By 2014, though, things were a little different.)

Policy makers continue to act as though capital
is what we need more of and we use everything from tax policy to monetary
policy to address that apparent scarcity.

The question is no longer, How do we get
more capital? We've got a glut. The question is, How do we get more
entrepreneurs and make more employees more entrepreneurial? We've got plenty of
capital to fund them. So much capital, in fact, that we're putting it into
negative interest bonds. That might be a signal that we need to start treating
capital differently. This is a post-capitalist market economy and requires a
different set of policies.

One reason that markets are great is
because of price signals. Things that are cheap you should use a lot of and
things that are expensive you should use less of. Capital? Capital is cheap and
we should take the market's advice on how to use it. What really is scarce? The
entrepreneurial ability to transform that capital into jobs and wealth. That’s the
limit that policy should focus on overcoming.

1 comment:

"Capital is cheap and we should take the market's advice on how to use it. What really is scarce? The entrepreneurial ability to transform that capital into jobs and wealth."

I would relate the 3rd sentence in the above excerpt is exactly the crux of the situation in that my observation is those w/capital seem only interested in short term gains. It appears the days of incubation are long gone. It's as if the entrepreneurial lending cycle is similar to electronic communication: immediate returns. Just as so many people are always connected and want information instantaneously, it seems as if those lending out capital to entrepreneurs want instant return on their investment.